How to stop big government in America

The Not-so-Secret Left-wing agenda to Increase the burden of government, by Cato's Dan Mitchell

The main political goal of the American left is to seduce Republicans into supporting higher taxes. Bluntly stated, all of their fiscal policy goals require more tax revenue coming to Washington.

The most important factor (from their perspective) is that they can’t make government much bigger than it is right now without a major tax increase.

Sure, they can finance spending with borrowing, but it appears that we’ve finally gotten to a point – both politically and economically – where higher deficits are no longer an option.

But here’s the problem for the left. Higher taxes generally are not popular with voters and politicians who campaign for higher taxes do not fare very well.

This is why Democrats, if they want to get more tax revenue and avoid political fallout, need to somehow convince GOPers (Republicans) to be part of the process (indeed, The Hill has reported that “the Democratic playbook has changed, with a key goal: get Republicans to violate the Americans for Tax Reform (ATR) pledge not to raise taxes.”)

It’s easy to understand why the left wants the GOP to give up the no-tax-increase pledge. Voters today think Democrats want to raise their taxes and Republicans want to protect them. That’s political gold for the GOP.

But if dumb Republicans can be convinced to sell out, then the political dynamics get completely reversed. All of a sudden, voters have a big incentive to make sure they’re not the ones who get hit, so they are prone to support higher taxes on the rich. This is where the Democrats have a home-field advantage.

Democrats already are willing to endorse higher tax rates on upper-income taxpayers, to be sure, even without getting cover from Republicans. But it’s much better to lure the GOP into a tax deal. After all, even soak-the-rich tax hikes generate a lot of opposition. Simply stated, voters wisely suspect that higher taxes on the so-called rich eventually will translate into higher taxes on everybody else.

But even if they could unilaterally impose class-warfare taxes on upper-income taxpayers, that still doesn’t solve the left’s problem. They would never admit it publicly, but smart left wingers understand that there are two very powerful reasons why soak-the-rich tax increases won’t raise much revenue.

1. There are not enough rich people to finance big government. According to the latest IRS data (from 2008) there are only about 321,000 households with income greater than $1 million of annual income. And they have aggregate taxable income of only about $1 trillion. That’s a lot of money, of course, but it wouldn’t balance the budget even if the government confiscated every penny (which would have catastrophic consequences on the incentives of rich people to earn and report income in future years).

2. Rich taxpayers will change their behavior to avoid the tax increases. This is the “Laffer Curve” effect, and it basically means that higher tax rates don’t raise as much revenue as expected because people respond to incentives and reduce the amount of income they are willing to earn and report. The Laffer Curve is especially strong for upper-income taxpayers because rich people have much greater access to lawyers, lobbyists, and accountants. Moreover, rich people are far more likely to earn capital income (interest, dividends, capital gains, etc), and it is much easier to control the timing, level and composition of capital income.

This doesn’t mean the left won’t push for class-warfare tax increases. They will. But their main motive will be politics, not raising revenue.

This is why, looking at the long-run fiscal situation, the left needs a value-added tax. The VAT is the only realistic way to collect the huge amount of revenue that would be necessary to finance promised entitlement benefits.

As I’ve noted before, the VAT is a giant source of tax revenue, so the left no longer would have to worry about financing a European-sized welfare state. After all, a VAT would give America a European-style tax system.

But a VAT would generate a firestorm of opposition. The Democrats would be committing political suicide to push such a tax scheme, especially since it would be a huge burden for the poor and middle class. This is why the left desperately needs to trick gullible Republicans into going along with a tax hike.

Enacting a VAT would be a win-win situation for the left. The torrent of new revenue would make it much easier to preserve the welfare state, so it’s easy to understand why they want to make it happen from a policy perspective. But the political benefits for the left are equally large. Here are a couple of inevitable consequences if GOPers get tricked into participating in a budget summit and wind up getting seduced into supporting a VAT.

1. There will be civil war inside the Republican Party. The vast majority of GOP politicians have pledged to vote against higher taxes. Some of them are insincere, of course, but many of them genuinely believe in defending taxpayers. A tax-increase deal would create a divisive fight, similar to what happened in 1990. This is a very nice fringe benefit for the left.

2. Conservative voters will rebel against the GOP establishment. When Republicans do the wrong thing, “base” voters get disillusioned. Some inside-the-beltway GOPers say this doesn’t matter because these voters have “no other options.” But they have the option of staying home, like they did in 2006 and 2008. Or sometimes they have a third party option, like in 1992. This is a very nice fringe benefit for the left.

3. Putting a VAT on the table will give the left a perfect opportunity to impose additional class warfare taxes. Because of the zero-sum mindset on Capitol Hill, there is strong bias to maintain the existing “distribution” of the tax burden. This means that a VAT, which is perceived as discriminating against the poor and middle class, almost surely will be married with some punitive taxes that target the nation’s most productive taxpayers. This is a very nice fringe benefit for the left.

To summarize, the VAT would be a fiscal policy disaster. It would single-handedly guarantee that the United States would turn into a Greek-style welfare state. And for those who care about the political future of the GOP, it would cripple the party in the eyes of voters.

Fortunately, there is a very simple way of stopping this horrible outcome. Republicans merely need to say no. At the risk of stating the obvious, there is no way that a VAT would be imposed without the GOP giving political cover to the Democrats. Indeed, it is highly unlikely that any significant tax increase, from this point forward, could be enacted without Republicans providing the margin of victory.